Priya Malani is the co-founder of Stash Wealth, a modern financial firm for H.E.N.R.Y.s™ [High Earners, Not Rich Yet]. In 2009, she left her job on Wall Street to become a financial resource for our generation. For almost five years, Stash has been changing the way 20-somethings and 30-somethings think about their money—whether they’re saving for a vacation or thinking of buying an apartment.
Buying a home signifies a major #adulting milestone: It’s a cornerstone of the American Dream and as a recent Zillow report reveals, millennials are eager to get in on the action, making up more than half (56 percent) of all first-time home buyers in the market. If you’re just starting your career—and living in an expensive city—it can feel like you’ll never be ready to buy your first place.
But with a solid plan, and an understanding of what you need to do, the American dream is achievable. With that in mind, we put together a list of six things to consider to find out if you’re ready to buy a home.
1) The Responsibility of homeownership doesn’t scare you.
Let’s face it: Renters have it pretty easy. If something breaks, you call the super to fix it. When you own a home, you’re responsible for everything—appliances, windows, pipes, and so much more.
That means calling around to get estimates and waiting for the plumber or electrician to show up; replacing the refrigerator when it finally stops working; knowing what the heck to do if a pipe bursts.
Plus, you’ll have to maintain the outside as well. If you live in a suburban development, some homeowners associations require things like weekly lawn maintenance at your expense, while city living means that you’re responsible for shoveling the sidewalk when it snows.
Lost in the joys of home ownership is the amount of work involved to maintain your place, but upkeep is super important if you hope your home’s value will appreciate. Curb appeal means everything, and as parts of your home age, you’ll need to decide if you want to spend money to renovate or sell for lower price.
Some people love it—hello, HGTV fans—and they get joy out of working on their home. Others hate it. Just make sure you’re in the “love it” or at least the “okay to deal with it and hire someone” camp before jumping in.
2) You have enough money saved up (and a little extra).
Obvious? Perhaps. But all things considered, this one is the most important factor. As the largest “expense” associated with purchasing a home, most of us start and stop with focusing on saving up for a down payment (a hefty job in and of itself).
That’s a good place to start, but there are many more costs than just the down payment. Normally, I tell clients to plan for an additional 5 percent of the purchase price for “everything else”. What does that include?
- Most lenders require three months minimum in cash reserves (part of your 401(k) counts)
- Last minute upgrades
- Moving expenses
- New furniture
When thinking about how much you have saved up for your down payment, it’s better to not include any money you have earmarked for emergencies; once you’re a homeowner, this account will be invaluable to you for unforeseen expenses. (Your emergency fund should equal three months worth of your fixed expenses: car payments, groceries, transportation and of course, your mortgage payment or rent.)
Conventional wisdom has us thinking we need to put 20 percent down when buying a home. But putting 10 percent down is a great option for millennials, especially in larger cities where accumulating 20 percent can be a very overwhelming task.
The below example was created with a 10 percent down payment in mind, but you should always consult a financial advisor to assess your specific situation.
If you’re purchasing a home for $250,000, you’ll need:
10% down payment = $25,000
3% to 5% for closing costs = $7,500-$12,500
5% for “everything else” = $12,500
Total you should have saved (discounting your emergency fund) = $45,000 to $50,000
3) You’re happy living in the same place for an extended period of time.
When you buy a home, you are laying roots. Real estate isn’t a liquid asset; it takes time to sell, and there are costs involved to do so. To make those costs worthwhile, you need to plan to live in your home for at least five to seven years. If you’re unsure about the city you’re in or think your job might transfer you, then renting is definitely the better way to go.
4) You can afford what you’re willing to live in.
Reality check: When most of us start looking at homes, we realize pretty quickly that there’s a monumental difference between the place we want to buy and the place we can afford to buy. You shouldn’t compromise on things like safety, neighborhood and a reasonable commute, but it may take you a little longer to save up for the place that you’d be willing to live in.
You’ll be much happier that you waited when you’re settled in a home that you’re excited to live in rather than one you compromised on simply because you had to “buy now.” Don’t let anyone pressure you into buying something that’s outside of a comfortable price range for you.
5) Your debt to income (DTI) ratio is attractive.
Finding your debt to income ratio is much simpler than it sounds, and it is one of the most important numbers to keep in mind when you apply for a mortgage. It informs your prospective lender how much of your monthly income goes to paying off debt each month. The lower your DTI, the more attractive you are as a borrower.
How to calculate your DTI:
First start by adding up the various payments you are required to make towards debt each month. Things like minimum required payments across all your credit cards, student loans payments, and your car loan payment all count. Once you have that number, divide it by your monthly gross income (before taxes), that’s your DTI Ratio.
Step 1: Add up your monthly debt payments
Credit card minimums $150 + car payment $250 + rent $1050 + student loans $400 =
Step 2: Calculate your monthly gross income
Salary = $65,000, then your monthly gross is $65,000/12 =
Step 3: Calculate your DTI = $1,850/$5416 =
A DTI below 36 percent is best. Although government programs can lend with DTIs in the 40 percentile range, your interest rate will be a lot higher, and it will likely be harder to manage your monthly debt payments.
6) You’re not thinking of your home as an investment or retirement plan.
Last year, a New York Times article featured a study that crushed all of our dreams that real estate is the holy grail of investments. It stated that over the last 126 years, outside of bubble markets (like New York City, Seattle, San Francisco, etc.), home prices merely kept pace with inflation. Meaning those stories you hear of your friends in Brooklyn who bought six years ago and have doubled their money is a rarity not the norm.
We don’t advise thinking about your home as a retirement plan either. When you’re about to retire, the last thing you want to do is sell your home just to have enough money to live. When you’re in your 20s and 30s (and even your 40s), there’s still plenty of time to secure a comfy retirement for yourself without having to bank on selling your home. It’s a good worse-case scenario, but your home should not be the cornerstone of your retirement plan.